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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good morning. My name is Rob, and I will be your conference operator today. At this time, I would like to welcome everyone to the Essent Group Limited Second Quarter 2019 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions]
Thank you. Mr. Chris Curran, Senior Vice President of Investor Relations. You may begin your conference.
Thank you, Rob. Good morning, everyone, and welcome to our call. Joining me today are Mark Casale, Chairman and CEO; and Larry McAlee, Chief Financial Officer.
Our press release, which contains Essent’s financial results for the second quarter of 2019 was issued earlier today and is available on our website at essentgroup.com in the Investors section. Our press release also includes non-GAAP financial measures that may be discussed during today’s call. The complete description of these measures and the reconciliation to GAAP may be found in Exhibit M of our press release.
Prior to getting started, I would like to remind participants that today’s discussions are being recorded and will include the use of forward-looking statements. These statements are based on current expectations, estimates, projections and assumptions that are subject to risks and uncertainties, which may cause actual results to differ materially.
For a discussion of these risks and uncertainties, please review the cautionary language regarding forward-looking statements in today’s press release, the risk factors included in our Form 10-K filed with the SEC on February 19, 2019, and any other reports and registration statements filed with the SEC, which are also available on our website.
Now, let me turn the call over to Mark.
Thanks, Chris. Good morning, everyone, and thank you for joining us. I’m pleased to report that Essent generated another strong quarter of financial results, as the operating environment remains favorable and credit continues to perform well. Also, we continue to be pleased with our progress in transitioning Essent to a buy, manage and distribute operating model, as we increase utilization of EssentEDGE and successfully obtain reinsurance on our 2015 and 2016 vintages with Radnor Re.
We believe that the combination of risk-based pricing on the front-end and risk distribution on the back-end allows us to mitigate franchise volatility during down cycles, making Essent a stronger and more sustainable franchise. Our outlook on our business remains positive as affordable interest rates accompanied by positive demographics and strong employment continue to bode well for the housing market.
Key metrics, such as homebuilder sentiment and new and existing home sales have rebounded from the declines experienced in 2018. In addition, there has been some moderation in home prices, which in conjunction with lower rates, contributes to improvements and affordability.
Now let me touch on our results. For the quarter, we earned $136 million, or $1.39 per diluted share, compared to $112 million, or $1.14 per diluted share for the second quarter a year ago. Our annualized return on an average equity for the second quarter was 21%.
Our financial results continue to be driven by our insurance in-force, which ended the quarter at $153 billion, representing a 25% increase from $123 billion at the end of the second quarter a year ago.
Finally, our balance sheet remains strong, ending the quarter with $3.5 billion in assets and $2.7 billion of GAAP equity. On the business front, our industry remains competitive with all participants deploying risk-based pricing engines.
During the quarter, we saw increased utilization of EssentEDGE, with approximately 95% of our customers now using it. We believe that the engine provides value to both Essent and our customers, especially as MI pricing is integrated into best execution frameworks.
For us, EssentEDGE provides flexibility for more granular pricing. And for our customers, it provides improved efficiencies in obtaining Essent’s best rate based on borrower’s credit and loan profiles.
Also during the quarter, we successfully completed our third insurance-linked note transaction, covering our 2015 and 2016 NIW. This transaction initially provides $334 million of protection on top of a $208 million first loss portion that Essent retains. Now, after completing five reinsurance transactions on our 2015 through 2018 NIW, we have $1.5 billion of reinsurance protection, covering approximately 70% of our portfolio.
Given our strong operating performance and use of reinsurance, we continue to generate excess capital. As a result, our Board of Directors has declared a quarterly dividend of $0.15 per share to be paid on September 16, 2019. We believe that a dividend is a tangible demonstration of one of the benefits of a buy, manage and distribute operating model.
Also, a dividend of this size, affords us the opportunity to maintain adequate levels of capital, continue investing in the business and take advantage of other potential growth opportunities.
Since the founding of Essent, we have been very thoughtful on managing capital and we’ll continue to do what we believe is in the best long-term interest of our franchise, policyholders and shareholders.
On the Washington front, given new leadership in Congress and at the FHFA, there has been increased focus on GSE Reform. However, given the delay in the administration’s housing finance reform proposal, the market is taking a wait-and-see approach, along with Congress, which does not appear to be creating a separate plan for reform.
While the FHFA has been vocal on GSE Reform, timing remains unclear as to when and if the GSEs will be released from conservatorship. From our standpoint, we remain confident that Essent is well-positioned to be successful across a broad range of alternatives being discussed.
Now, let me turn the call over to Larry.
Thanks, Mark, and good morning, everyone. I will now discuss our results for the quarter in more detail. Earned premium for the second quarter was $188 million, an increase of 6% over the first quarter of $178 million and an increase of 20% from $157 million in the second quarter of 2018. The increase in earned premiums over the first quarter was in line with our 6% increase in average insurance in-force.
The average net premium rate for the second quarter was 49 basis points, which was 1 basis point higher than the first quarter of 2019, due principally to an increase in singles cancellation income of $4.5 million in the quarter to $8.8 million.
The favorable impact of singles cancellation income on the net premium rate for the second quarter was partially offset by an increase in ceded premiums on our reinsurance transactions from $6 million in the first quarter of 2019 to $8.4 million in the second quarter.
The increase in premiums ceded results from the full quarter impact of the reinsurance transactions, which closed in the first quarter. The execution of the insurance-linked note transaction on our 2015 and 2016 new insurance written, which was consummated in late June, had minimal impact from ceded premiums, or our average net premium rate in the second quarter.
Looking forward to the third quarter, we do expect that the amount of singles cancellation income will decline from the strong level experienced in the second quarter. As a result, based on the reinsurance we currently have in place and our expectation of pricing for new business, we expect our average net premium rate to be in the range of 46 to 47 basis points for the balance of 2019.
Investment income, excluding realized gains, was $20.6 million in the second quarter of 2019, compared to $19.9 million in the first quarter and $15.1 million in the second quarter a year ago. The increase in investment income of 4% over the first quarter of 2019 is due to a modest increase in the balance of our investments.
We recorded a gain of $1.2 million in the second quarter, compared to a gain of $1.4 million in the first quarter for the increase in fair value of embedded derivatives associated with the insurance-linked note transactions. These gains are included in other income in our consolidated statements of comprehensive income.
We remain pleased with the credit performance of our in-force book. Our provision for losses and loss adjustment expenses was $5 million in the second quarter, compared to a provision of $7 million in the first quarter of 2019 and a provision of $2 million in the second quarter a year ago.
The default rate on the entire portfolio increased 1 basis point from March 31, 2019 to 66 basis points as of June 30. Historically, the second quarter represents the lowest quarter with respect to our provision for losses and loss adjustment expenses.
Other underwriting and operating expenses were $41.5 million for the second quarter of 2019, compared to $41 million in the first quarter and $36.4 million in the second quarter a year ago. Income tax expense for the first-half of the year was calculated using an estimated annual effective tax rate for 2019 of 16.1% and it was reduced by $2 million of excess tax benefits associated with vesting of restricted share and share units issued to employees.
The consolidated balance of cash and investments at June 30, 2019 was $3.2 billion. The cash and investment balance at the holding company was $72 million. No capital contributions or dividends between the holding company and operating businesses were completed during the most recent quarter.
At the end of the second quarter of 2019, we have $275 million of undrawn capacity under the revolving component of our credit facility and $225 million of term debt outstanding.
As of June 30, 2019, the combined U.S. mortgage insurance business statutory capital was $2.1 billion, with a risk-to-capital ratio of 13.6:1, compared to 13.5:1 at the end of the first quarter 2019. The risk-to-capital ratio at June 30 reflects the reduction in risk in-force of $1.5 billion for reinsurance coverage.
At the end of the second quarter, Essent Re had GAAP equity of approximately $900 million to $49.3 billion of net risk in-force. In addition, Essent Guaranty’s available assets exceeded its minimum required assets as computed under PMIERs by over $900 million.
Now, let me turn the call back over to Mark.
Thanks, Larry. In closing, Essent generated another strong quarter of financial performance, as the operating and credit environments were favorable. Also, we remain pleased with our progress in transitioning our franchise to a buy, manage and distribute model, and we’re excited to announce a dividend, which reflects one of the benefits of such an operating model.
Looking ahead, we believe that is more risk is originated through EssentEDGE and is distributed through the reinsurance market – markets, it will strengthen our franchise, making us a stronger company for our customers, policyholders and shareholders.
Now, let’s get to your questions. Operator?
Thank you. [Operator Instructions] Your first question comes from the line of Mark DeVries from Barclays. Your line is open.
Thanks. I was pleased to see the [Technical Difficulty] announced the dividend. You guys are obviously [Technical Difficulty] a fair amount of capital with a very strong in terms of growth that are going to bring some of that up with the ILN. How should we think about growth and excess capital going forward and kind of preference for how you look to deploy that?
Hey, Mark, you’re breaking up pretty badly. So I’ll take a stab at your question. Just in terms of the dividends, I think, the first message, and we said it in the script. But the first message is, this is really is an indication of our confidence in the sustainability of the cash flows. It’s not – I wouldn’t tie it as much to excess capital as people think.
For example, if we had the same amount of excess capital, but didn’t have any reinsurance, we would not be distributing capital to shareholders. It would be too big of a risk, given that the liability would be uncapped on our balance sheet. This is really – this is an output of the reinsurance strategy. Now that 70% of the book is reinsured. We feel confident that we’ve removed a lot of the volatility around the tail. That’s why we went back into the 2015 and 2016 book in the past quarter.
Now that, that tail, we feel really – we’ve really boxed that risk. That gives us more confidence to be able to distribute dividends and cash at this time from the company. Longer-term, I would expect the growth in capital distribution really to reflect the growth in operating cash flow.
Again, look at the cash flow that’s coming out of the statutory – our statutory capital out of the regulated entities, that’s really going to give you the clues as to how much capital we’re going to distribute over time. Don’t look at PMIERs. PMIERs is $900 million, but PMIERs really is not the binding constraint. The binding constraint is coming from the operating entities, where the cash flows can come out of there and we feel comfortable to pay that. And like the fact that we’re hedging the book, again, gives us the confidence to pay that dividend.
Okay. And Mark, after investing in the business, how would you look to deploy that additional growth and excess cash flow? Would you look for us to continue to grow the dividend, or would buybacks be on the table?
Again, I would look and say, the amount of the dividend is reflective of what we think is a material amount, and also it leaves us adequate capital to continue to invest in the businesses, look at potential new opportunities. As you heard me say in the past, Mark, capital begets opportunities and you can’t judge that on a quarter-by-quarter basis.
So we’re going to look at it that way, and we’re not going to be forced into kind of capital distribution. And – but you guys take a look – as the market or really the analysts take a look at PMIERs and equate that excess for a cash to be distributed. PMIERs could change, Mark. Keep in mind that, it’s not the binding constraint.
And we just think there’s plenty of opportunities, the insurance in-force book grew 25% year-over-year, housing continues to be, I believe, a tailwind, and we think there’s going to be opportunities, both inside the business, potential GSE Reform, deeper cover are always on the table. There’s – we think there’s plenty of ways to invest the capital to continue to grow the business. We’re achieving returns. I believe in the second quarter, it was 21%, plenty of opportunity to reinvest kind of around in the core business.
In the future, if those opportunities don’t really exist, we’ll certainly look at capital distributions via dividends or buybacks. But right now, I think the message to the dividend was the sustainability of the cash flows versus a capital distribution story.
Okay, understood. And then, just as far as your composition of capital, how are you guys thinking about potentially levering up the balance sheet a little more using some of your undrawn capacity?
Again, Mark, we’re not looking to lever up the balance sheet. These businesses are long and there’s a lot of leverage within the insurance in-force portfolio. So, again, I think there’s plenty – we have plenty of capital to continue to look to reinvest the business without trying to create leverage. There’s embedded leverage also in the ILNs. A typical ILN deal, Mark, is four to five years, which is – equates to a senior – kind of a senior note, obviously, at a lower-cost with the added protection of a hedge.
So I look at that really is kind of a debt replacement versus going and adding additional leverage at the HoldCo. We would only do that if there was an opportunity outsize that we could look to grow the franchise [Multiple Speakers] versus again, using it to create higher returns. The returns are high enough already at 21%.
Okay. Thanks, Mark.
Your next question comes from the line of Phil Stefano from Deutsche Bank. Your line is open.
Yes, thanks, and good morning. I was hoping to talk through just thoughts around funding the dividend. I know there’s some excess capital in Essent Re, when I do my other science [ph] plus roll forward. It looks like the contingency reserve starts coming back and maybe 2023, 2024, that really starts to ramp up more significantly. But there’s the ability to upstream from Essent Guaranty to the HoldCo to cover that. And maybe you could talk about kind of what you want to hold at the holding company just for kind of normal operating expenses?
Yes. That’s a really good question, Phil. You’re focused on the right issue, which is really where the cash is coming from and the sustainability of that cash flow. Right now, I mean, just given the size of the dividend, we have the cash at HoldCo to pay it. Going forward, we believe, there’s ample capacity to dividend up cash both from Essent Re and from Essent Guaranty and we’ll kind of look at that.
In terms of HoldCo cash, we don’t have a ton of operating expenses at the HoldCo. I mean, they’re minimal, right? Most of them are embedded in the operating entities. That being said, we’ll probably look into that $50 million to $100 million range is kind of a good number. And then we’ll leave the cash and the operating entities and bring them up as needed.
And when I think about your ability to do normal dividends out of Essent Guaranty versus the fungibility out of Essent Re in Bermuda. Is there a difference between the two, or is it – you can kind of pull the trigger when you’re ready?
They’re pretty equal. They’re probably, I mean, there’s a lot of flexibility within Essent Guaranty. There’s probably even a little bit more flexibility within Essent Re and they don’t have any of the friction since it’s already in Bermuda. So it’s – but we have a lot of flexibility in both, though. Good question.
Okay. One last one, with these ILN coverages that you’re putting in place, are they giving you any insight into the pricing? And so when the quota shares started to happen in the sector, the expectation, at least in my mind, was that the reinsurers were going to provide a second set of eyes on your primary pricing. I – do the investors in the ILN business, do they care? Are they looking at it?
No, they absolutely care and they’re looking at it pretty closely in terms of key metrics around FICO geographic concentration, LTVs, DTIs, they definitely care. We haven’t seen much yet to cause us to change the pricing. It hasn’t been as reflective in terms of kind of where we set the attachment point or certainly hasn’t happened in the pricing. But you touched on a good point.
So I think that’s one of the reasons we like the ILN market. It is the second set of eyes. I have a group of investors and their mortgage credit risk really well, just as well as we do, to be honest. So we’re looking for – as things start to turn, I think, we look at that as maybe a little bit of a leading indicator, which we can then roll into kind of the upfront engine and be able to alter price to meet that higher-cost of goods sold, so to speak.
Got it. Thanks, and congrats on the quarter.
Thanks.
Your next question comes from the line of Sam Joey from Credit Suisse. Your line is open.
Hi. I’m filling in for Doug Harter today. So I guess, I’m just thinking about the credit quality of the post-crisis vintages. I mean, we talk about the seasoning of that, and I’m seeing that incurred losses for new defaults have been trending lower. So I’m just trying to tie the two together and just wanted your thoughts on how we should think about credit quality going forward, especially in the second-half of this year.
Yes. Couple of things, Sam. One, the credit quality continues to be excellent and default rates in the 60 to 65 basis point range, incurred loss ratios, low single digits across all the vintages. I wouldn’t expect that to change in the second-half of the year, given where the economy is. And also remember the strength of the book, given average FICO now, the mid-740s, average LTV, 91, 91.5, a lot of embedded mark-to-market LTV on the older book. We continue to think credit will be – probably perform better than our expectations.
So, again, I think, so from that standpoint, the expected loss around the credit is pretty benign. One would ask then, why did you go out and reinsure the previous books, if you felt credit was so good? Which is a fair question. And the real answer is, you don’t know. This is a business that’s subject to macroeconomic catastrophic risk. Our hurricane or earthquake is a recession, and you just never know when that’s going to come.
So I think, the combination of really understanding the credit on the front-end and making sure losses are within that 2% to 3% expected case, that helps our reinsurance partners feel comfortable that we’re looking at it and feel good about it. So I think the combination short-term, we feel pretty good about the credit. Longer-term, we still feel pretty good given where the economy is. But we wanted to have that added protection, again, to remove the volatility around those cash flows.
Historically, this business really was, what do you think credits going to be in the next three to six months. It’s a lot like how the credit card guys are. They’re still in that mode, where people kind of look at the – the investors tend to back away when they think the market is going to soften. And I think, with our reinsurance in place and love to go through a cycle for people to realize that. You’re going to see a lot less volatility in the cash flows, and I think that’s a positive – very positive for the franchise.
Got it. And one more from me. So I mean, you guys talked about EssentEDGE. And I guess, now we’ve had about two, three quarters of that coming into effect. Just wanted more color on how that has been benefiting the NIW production and your positioning from a competitive standpoint?
Yes. I mean, it’s only been in place for two quarters…
Yes.
…and a little less than two quarters, when you think it kind of got rolled into – didn’t really get rolled to middle of January and some of the other guys were a little further behind, but pretty much the wrong place now, as I said, in the script. There’s no real learning from an NIW – we’re not – this is not really a market share tool.
We’re not using this to bring on more market share. We’re doing it really to help us shape the portfolio and be prepared when the market enters into, again, a softer time period, because again, as you heard me say this a bunch of times, credit kills these businesses. So our ability to alter pricing, both up and down in the long-term is really going to be what’s critical.
So what are we doing now to do that? We’re testing. We have a lot of different pricing strategies that are in the market, some higher, some lower, really looking at price elasticity across a broad range of geographies, LTV bands, FICO bands, and we’re really in the learning process. We’re not after that next loan. This market is so big that there’s plenty of market share for everyone.
So we’re really looking at this to learn a lot. And then over time, it’s really can we introduce additional factors. There are other factors in a borrower’s credit profile that are going to be more indicative of their future performance. And we’re testing those and we’re trying to develop that.
And as you heard me say before, we’re probably year two into a five-year transition around the business. Again, the dividend was a statement that we believe that the transition is going very well, but we have a plenty to learn. We continue to test different reinsurance structures. And, again, we’re testing a lot on the front-end.
I’m very encouraged, just in terms of the lenders adopting to it. And I think that helps, because I think that’ll help us continue to test. But it’s really early in terms of looking and saying, this is going to be a way to build out share, that’s never really been kind of our MO.
Got it. Thank you so much.
You’re welcome.
Your next question comes from the line of Mackenzie Aron from Zelman & Associates. Your line is open.
Thank you. Good morning. Congrats on the quarter. I think just one question for me. Curious, Mark, your thoughts about the QM patch and the attention it’s been given in the last couple of weeks with the CFPB’s announcement, how you think it could impact the business and what you’re thinking that the most likely outcome could be there?
I think the most likely outcome period – the most likely outcome from a comment period will be a balanced, Mackenzie, between promoting homeownership and protecting the taxpayer. I really do. I think we’ll get to a good answer. And I don’t really believe there’ll be much impact, if any on kind of the industry NIW. I just think we’ll get to a good answer.
You probably have 18 to anywhere from 18 to 30 months before it gets implemented. I think the CFPB has requested the comment period. I think USMI has some pretty good thoughts on it, and I believe others will have it. So I think we’re going to get to a good place. I think it was a little bit overblown as is typical sometimes and understandable, given how material it is. But I think when we get down to it, we’ll wound up in a good place.
Okay, thanks. And actually just a quick numbers one. Did you get the dollar amount of the single premium cancellations this quarter?
Yes. Mackenzie, it’s Larry. It was at $8.8 million, which compares to about $4.3 million in the prior quarter.
Okay, great. Thank you.
Your next question comes from the line of Mihir Bhatia from Bank of America. Your line is open.
Hi. Thanks for taking the questions and congrats on the quarter and the dividend. I guess, just to start with, just to follow-up on the QM discussion. Do you think the FHF’s definition of QM will change also as a result of – what the CFPB – where the CFPB ends up?
I can’t answer that, I don’t know, but I do think there’ll be a coordinated effort. I would say that’s the one impression we’ve gotten in the change of leadership at FHFA and FHA, it’s much better coordinated. So I would expect a coordinated response versus the QM patch expires, so the GSEs and everything goes to FHA, I just don’t see that as happening. But it’s a really good question. I just – I don’t see that as a realistic outcome.
Got it. And then just can you help us size just a percent of either your NIW, or just if you don’t want to give that’d be that specific? What do you guys think is really dependent on QM, right, because I think one of the issues is – has been right now because of QM, there’s the feeling out there that sometimes loan officers when they get to book it as qualified, they’ll stop working as well. What is the actual impact rather than the 20% 30% numbers, we’ve seen off this QM [Multiple Speakers]
Yes. I mean, I understand. I don’t – it’s hard for me to answer that question. I mean, I’ve heard that and we do see that where lenders will stop calculating income. I would put my money more on – they’re going to have – they’re going to come out with a realistic solution. I wouldn’t get tied into how we calculate income.
And first of all, debt-to-income is not the most predictive indicator, anyway. It’s more residual income. I mean, debt-to-income is a gross number, where after-tax is probably a better number. And my feeling is I’d rather see the industry move towards that anyway. And maybe that will be part of the solution, again, 18 to 30 months, you have a lot of time to work through a real solution.
And I would bank more on that versus trying to get into – trying to quantify, you’re going to quantify something and where the rule is going to end up changing, and it’s not going to matter. So I wouldn’t get to caught up in that.
Got it. And then, if I could switch topics a little bit. Just on the competitive environment, I think, again, similarly, last couple of weeks has been an article or two about some discounting going on maybe in the bulk made business. Are you seeing there – can you just comment on the overall pricing environment, in general? Is it stable? It has to move to black box pricing…
A - Mark Casale.
Yes, I would say…
… had a little kind of impact?
…yes, the returns are stable. They continue to be stable in a 21% return on equity in the second quarter. The unit economics of the business, which is a business that we write. Our expected return on the business we write today are still in that kind of mid-teens, and that’s kind of that 13% to 16% range, given kind of an unexpected claim rate.
In terms of pricing, there hasn’t been much change since the rate cards dropped last year. And whether it’s in a read an article or two, it’s – you just don’t have the context. I will continue to look at the earned premium yield coming off our portfolio. And clearly, that’ll go down as some of the newer rates work their way into the portfolio.
But you’re relatively – I think you’ve been around for a couple of years. There’s – there was LPMI discounting six years ago, when we get – people would call up and say, what’s going on with the LPMI big cards? And there’s always something, and I just think it’s a competitive industry. Every player, we have some really smart competitors Everyone’s looking for a way to continue to build their franchise.
I just wouldn’t – I would just take a step back and say, let’s look at the big picture. You’re on our run rate now. The $300 billion NIW for the business and default rates of 60 basis points, you have clear and transparent standards around capital. You have this new technology around ILNs and reinsurance that’s – it’s really probably the biggest change in the industry side in 20 years.
And again, I would look – again, I would just try to keep this at a higher level. Again, premium rates continue to be strong. Don’t forget, there’s places where people discount, there’s other places where and there’s ability to raise price. And I think, again, the unit economics of the business, which is what we really focus on, we continue to be – continued to be kind of at our return levels.
Excellent. No, thank you. That – that’s very helpful. And the last question for me, just on the OpEx guidance, I think, you were at the start – earlier this year, you said, $160 million to $165 million for full-year. Is that good, or given the strong NIW maybe a little bit higher just [Multiple Speakers]…
Now we’re still on that. I would still – that’s a good range still. We’re holding to that.
Okay, great. Thank you.
You’re welcome.
Your next question comes from the line of Bose George from KBW. Your line is open.
Guys, good morning. I just want to ask about market share. And I know you don’t like to focus on it that much. But just with everyone reporting, we have your shared at 18.6%. The average – the guidance you’ve kind of talked about historically is 14% to 16%. So, any thoughts there? Also, you think the share is still bouncing around a bit with the introduction of the pricing engines?
Yes. I think it’s still bouncing around. I think you have the big cars out there and there’s a few big players that do that, and that kind of moves to share kind of back and forth in addition to the engine, which I think it’s probably creating some volatility. All in, we’re holding steadfast, Bose. I still think kind of that, that mid-teens share is really where we’ll end up longer-term. It ebbs and flows, but we don’t read too much into it. I mean, I was looking at it a couple of days ago and we were probably 14% eight quarters ago.
So it kind of – it ebbs and flows. I think some of our – we continue to add customers. I think that’s the one message with EDGE, it’s pretty good. We had a 20 in the first quarter, we had a 35 in the second quarter. So I think there’s certain lenders, there was one MI that had the engine now and I think there’s certain lenders that like the engine. So as new – as other guys come out with engines that allows us to break into some accounts, that’s obviously the MI volume from that is very immaterial, but that can tends to grow over time.
We continue to grow the franchise. Again, we don’t disclose a lot of this stuff in terms of users. But it continues to grow, which is, again, as a positive angle to it. And, again, just from a market share, in general, with a market close to $100 billion for the second quarter, I think that – I think there’s enough for everyone to do well.
Okay, great. Makes sense. Thanks. And then just in terms of other growth opportunities, I know growth opportunities remain strong in the U.S. But just curious if you’re interested in growth opportunities in some other jurisdictions like Canada or Australia?
Yes. I mean, I think in the past, we have expressed interest and I’ve looked at both Australia and Canada. Mostly from a reinsurance perspective, that that’s been our angle and we continue to like those markets, I think, just in terms of the strong regulatory environments, good housing, interesting borrower characteristics. Real – really longer-term, it’s something where we’ll continue to look at, that’s one opportunity. And like I said earlier, I think, there’s enough opportunity, even around GSE Reform. There’s certain ways there that you could put more capital to work.
And third, and we talked about this in the past call is, there’s always potential consolidation in the MI industry, and there’s always potential and you want to keep dry powder around for that, because I think longer-term, as you look at lenders consolidating, moving more towards kind of best execution pricing, I think, the kind of the model of MI in terms of the business model upfront will begin to evolve over time, too.
And I think there – there’s a case to consolidate and really to leverage costs, which I think will benefit from an investor standpoint. You can never predict these type of things. There’s always needs to be a catalyst and there’s long range. But if you put yourself in my shoes, you want to make sure you have the capital to take advantage of those opportunities. And there could be other ones that we haven’t – that could come across our desk.
So I think we look at a lot of different things. We don’t – we haven’t acted on any of them yet. But that’s why you have capital. The minute you distribute a ton of capital, there’s some folks at short-term are very happy, but it really handcuffs us longer-term. And I operate the business – I’m operating the business, as if I’m going to run it for the next 15 to 20 years. Whether I personally do that or not is not the point, but I think you have to have a longer range of view. 75% of my compensation is growth in book value per share.
So we’re going to continue to look for ways to grow book value per share and have a long horizon. Having a long horizon gives you the ability and the patience to make decisions over the long course versus just trying to make them on a short-term basis.
Okay. It makes sense. Thanks.
Your next question comes from the line of Jack Micenko from SIG. Your line is open.
Good morning. Mark, I wanted to get inside the board side a little bit on the dividend thinking. I guess on consensus numbers for this year, you’re coming in around a 11% payout notional, it’s about, call it, $60 million a year. How do you – what’s the thought process as we look forward? Is it – are you thinking more payout ratio, or is it more dollars? And if it’s dollars, what’s the driver, if it’s not some sort of ratio calculation?
Yes, I think it’s more of a payout ratio, Jack, I’m looking and saying how much is – how much cash you’re producing and what portion of that cash to do you feel comfortable remitting to the shareholders. So I would focus on that. I wouldn’t focus necessarily on the 10 or 11. I think we have a number in mind longer-term that we’ll shoot for. But I think, again, the key part of the dividend today was – and we spoke – we talked about this probably last August when we just had our first deal and people asked us about capital distribution. And I think the response was normal, right?
We said we wanted to make sure we had more in the book reinsured. We wanted to make sure we box that volatility when we run out and distribute capital before we felt comfortable. Getting back to my comment earlier, where we hadn’t done any ILNs. With the same amount of capital, we wouldn’t have given back in nickel. It wouldn’t have been a prudent thing to do.
But now, 70% of the book, we felt this was a message that we feel good around the sustainability of those cash flows. And then over time, I think the answer is it depends Jack. I mean, if there’s opportunities to invest and I just went through some of the potential opportunities, they could pan out or not pan out.
And if they don’t pan out, what are you going to do? You’re probably going to look for – I don’t think the payout ratio would change much as we get to – we’ll probably get to a steady state. But then you would, of course, you would look at buybacks, depending on price and where the stock is trading and all those sort of things. It would be – it wouldn’t be prudent not to do that.
I just – the message today is, we’re off to a good start. The models in the transition phase. We feel like we have a lot of capital continuing to grow that capital. And we still believe there’s choices to put that capital to work. And I think we’ve done a pretty good job of having a good returns on equity. And I think the view is, we’ll continue to exhaust those opportunities.
Got it. On the June ILN, given that was a seasoned book of business. Was execution was pricing any better relative to some of the prior deals, where the vintages were more recent?
It was better slightly. I mean, this is all – all the deals are kind of treated and priced pretty close to each other. But I would say, on the margin, it was better.
Okay. And just one more for Larry. Larry, does investment income grow if we have, let’s just say, call it, 50 bps of cuts between now and the end of 2020 just because, I mean, obviously, the big NIW quarter this quarter and insurance, of course, keeps growing, that portfolio probably – does growth outpace rates in the portfolio for the foreseeable future? Thanks.
Yes. Jack, it does. We’ll continue to grow cash flows, as Mark mentioned earlier, very strong. So the growth of the portfolio would outpace those types of cuts and rates. And we do have a portion of the portfolio that’s been locked in, duration of portfolios about 3.5. So we do have cash flows and bonds have been locked in and sort of three, four and five-year maturities. So yes, we would expect to continue to grow the absolute dollars of investment income, independent of any further rate cuts.
Got it. Thank you.
Your next question comes from the line of Chris Gamaitoni from Compass Point. Your line is open. Chris, your line is open.
Can you hear me?
Yes.
All right. Sorry. I don’t know what happened. Larry, I want to follow-up on that last question. What’s the current reinvestment yield you’re seeing in the investment portfolio?
The reinvestment yield for – okay, so the new assets during the quarter, Chris, were about 2.7% and the yield on the portfolio as a whole was 2.8% in the quarter.
That’s helpful. And now with 70% of the book reinsured, is there any commentary that you can provide us on kind of how you think the portfolio would perform during a significant stress of Moody’s whatever scenario you want to reference?
Sure, Chris. I mean, I kind of look at in terms of kind of columns left to right. So if you think about the base case on the left column, 2% to 3% claim rate, which is our normal forecasts. Obviously, the mid-teen ROEs wouldn’t be sustainable. Go to a recession, moderate recession, where the claim rate rises to 5%. And the same thing, the mid-teens ROEs. And the reason is, you’re going to attach it to in a quarter and – or detachment goes all the way up to 7% or 8%. So all those losses now are absorbed by the reinsurance.
So you maintain those mid-teen ROEs. Go to a crisis now, I mean, at 10% claim rate, we’ll use, for example, which is not as quite as rate where they maybe the Great Recession could be given where any claim rates would be given where we have higher FICOs than we’ve had in the past.
There, I think we still clock in at low single digits. And, again, I think that’s because we would attach it 2% in a quarter. We detach at 7% or 8%. So we have a little – we have the first loss when we have a little bit above the detachment. So I think we feel pretty good in terms of just how the portfolio would perform during a stress scenario.
Another way to look at it, Chris, is just look at the amount of shareholders’ equity we have on the balance sheet, $2.7 billion. We have another $1.5 billion of off-balance sheet, which I mentioned in the script. So that’s $4.2 billion against the roughly $150 billion book, that’s close to 3% capital. So we feel pretty good from a capital standpoint.
So again, as we think about the ways to withstand a recession or something really severe, I think looking at it both ways is – both ways to how we look at it, we obviously run the model and I kind of look at it from a real high-level and how much capital we going to have in times of stress. And I think that – I feel – I think, we feel pretty good from that standpoint.
That’s all the questions I have. Thanks.
Your next question comes from the line of Rick Shane from JPMorgan. Your line is open.
Hey, Mark, and thanks, everybody, for taking my questions. Look, just one very high-level question. The – one of the big themes that’s been outlined for the industry over time is the opportunity as millennials enter the first-time homebuyer market. I’m curious, given what you guys are seeing if that’s actually really manifesting at this point, or is that still sort of a theoretical development?
I think it’s more than – I think it’s well on its way, Rick. I think you can see just in terms of homeownership rates, I think tick down a little bit in the past quarter, but has been up. A big portion of new homeowners has been first-time homeowners. And I think just look at the overall level of originations, I mean – and look at where builders are and how they’re building. I read something the White House put out a press release about a month ago saying, for every 10 households being formed, only seven homes are being built in the country. So that clearly, supply is still lacking.
But I think the demand thesis, which we laid out now, I think, was right in our first quarter going public that we believe demand for housing would be stronger than people think. I think that’s playing out well. And I think it’s a good point that you bring up. Again, from a secular standpoint, we have a decent tailwind. And I think that’s we do follow the fortunes of housing.
So when you think and we’ve talked a lot about the detail here, which is critical. But when you take a step back and look from a macro standpoint, we do have housing and we see it and I see it just traveling around the country, when I visit clients just that I call it that third ring. The first ring was post-World War II, the first suburbs. They obviously got filled it up. The second ring was in the 1980s. And now that third ring is really where you’re pushing further out from the city limits, you’re starting to see that really developed.
So the millennials, really, they have to live somewhere. And I think that’s – so you’re starting to see these – this third ring around the cities really start to develop and I think that’ll play out. I think, again, I think it’s going to play out for a while. It could be over the next three to five years till we – till the amount of the supply catches up with the demand on the housing side. Again, that’s not a straight line up. That’s the caution, right? I mean, rates went up in the fourth quarter last year, that’s going to cause a pause.
So it’s been my view that the market will continue to go higher, just won’t go in a straight line. There’ll be be stops and starts and there’ll be panics when it happens, because just like it was in the fourth quarter last year. But again, I think longer-term, I think that’s a little underappreciated, is where we stand, that the MIs position in kind of the secular growth of housing.
Well, it’s interesting as you talk about that third ring as we moved to a more flexible workforce, either gig economy or work-from-home as bandwidth continues to improve. That makes the third ring a lot more accessible as well?
It really does. I mean, I think in the second ring, which I was fortunate enough to let – live in the – you’ve knocked down a farm, scraped up all the grass and you were there was 60 homes by yourself. There was nothing really around you. And now you’re right, that third rings, they’re bringing kind of these many towns and you see a lot of amenities, such as Starbucks. And you’re right, the ability of the worker to work remotely save that long commute into the city.
So it’s becoming much more livable. out there, a lot of – lot more walking areas, mix of townhomes and single family. So it’s actually, I think it’s very attractive for young families and, obviously, they’ll start to build very nice schools. So remember, families are attracted to schools. That’s the number one reason why young couples with kids move out of cities, because they want to go into good schools and all the good schools are in the suburbs.
So you’re starting to see – we’d see it in the Philadelphia area, that expansion West. And first you see the developments and you see the housing and these play out over a long time. This isn’t like a three-year. These are five, 10, 15-year phenomenon. So we’re seeing that and I see it in a lot of other places. But you’re right, it’s – I think it bodes well for, certainly, for the mortgage industry and certainly and obviously for the MI business, because we follow the fortunes.
Terrific. Hey, Mark, thank you very much.
You’re welcome.
Your next question comes from the line of Geoffrey Dunn from Dowling & Partners. Your line line is open.
Good morning.
Good morning,
Mark, with the – with 70%-plus of the book now covered and that number likely going up when you do the 2019 book. I’m curious if you have any update on thoughts on cat reinsurance. Is that a market that is developing at all, that you’re looking at more, given where the XOL coverage is today?
Yes. Well, I do – we did it on the 17 book, we went out and did a reinsurance cover. And that was – it was – it wasn’t easy to play. So there’s a little fan out there from a reinsurance perspective. I think I’m more logical execution for that, Geoff, is in the capital markets. I do think and that’s something we are looking at. Remember, we continue to test these various structures. I wouldn’t be surprised if we look at moving higher up in the structure, maybe in our next deal or two.
So, again, it’s something we’ll continue to look at, because I think you want to almost take it off the table in terms of potential kind of detachment. And I think the pricing is there, the capital markets are there, you can do. And I believe one of our competitors did go higher. It seem like they priced pretty well.
And that actually feeds into my second question, which is what dictates the attachment points in the new business? Obviously, nationals those came in below two on its latest deal. And then obviously, there’s the back-end detachment. So if you could address both sides of the ILNs, if you could, please?
Yes. I think that – I think our models, obviously, it’s hard to raise. You have to – you’re hedging your model risk, I think, when you get to the higher attachment points. And I think that’s something that some of its just a comfort level, and it really just comes down what the cost of it is.
I think on the attachment points, I think it’s – there’s a little bit of price there, too. And I think our view is, I think, they’re all kind of in the same neighborhood. So, kind of in that 2% to 2.5% range. I don’t know if there’s a lot of science between one or the other. But I think it really is going to come down to cost and that’s how we look at it, which is we’re not – we feel comfortable in that 2% to 3% claim rate.
So I think the only reason you go higher than where we are now as if the market kind of forced it. And that could certainly happen, right? I mean, you can get into in the next 18 to 24 months, where the ILN investors start to see a slowdown, and they start to think the attachment point is going to get hit.
So the first thing they’re going to want to do is raise it. That’s what I would do. And I think there, what we would – I think our – one of our responses to that would be now that we’re holding that additional risk, is there a means through the pricing engines to reflect that higher cost, so to speak, in upfront and upfront pricing. Again, that’s just – the industry never had that before. The industry had one price increase in 2008 and it was a large one. It was really two price increases. There was the removal of captives and there was a 20% increase just across the Board via the rate cars just like one fell swoop as a little too late. But the industry didn’t have the tools then to raise pricing. I think here it’ll be in a much more incremental basis and that’s what we’re testing today.
We’re testing lower prices and higher prices, because if you’re looking to that blended premium. So I think that’s, again, when I think about the engines, the biggest message there is the ability now to price of the loan level and just the flexibility to both increase and decrease price over time. And I think there is a pretty strong linkage between what we’re doing on the reinsurance side and how we’re going to price on the front-end.
Okay. Thank you.
You’re welcome.
There are no further questions at this time. I’ll turn the call back to our presenters.
Okay. Thank you, operator. Before ending our call, we’d like to thank you for your participation today and enjoy your weekend.
Ladies and gentlemen, thank you for your participation. This concludes today’s conference cal, and you may now disconnect.